A New Market Regime After Trump

Reflation has been a key theme shaping global markets in recent months, amid signs of rising price pressures, central banks signaling a greater tolerance to let inflation run hotter and policy emphasis shifting to fiscal stimulus. We see Donald Trump’s win and the Republican majority in Congress amplifying this dynamic in the short term. This week’s chart helps explain why.

Reflationary environments—characterized by stronger nominal economic growth—tend to help boost assets such as commodities and value stocks and hurt many perceived safe havens. See the recent rise in the 10-year U.S. Treasury yield (bond prices and yields move in opposite directions) in the chart above, as well as the underperformance of bond-proxy utilities versus the outperformance of cyclical banks.

Fuel for the reflationary fire

We see the election result increasing the likelihood of income and corporate tax cuts—as well as greater spending on infrastructure in the medium term. These measures could create jobs and support wage growth, further fueling today’s reflationary trend and increasing the fiscal deficit, we believe. This should result in at least a moderately steeper U.S. Treasury yield curve. We expect the Federal Reserve to raise rates next month and see a rising chance of additional future rate hikes.

Against this backdrop we are cautious of long-duration bonds and favor Treasury Inflation Protected Securities (TIPS). We see equities as attractive, but expect lower returns ahead amid rising policy uncertainty. We expect cyclical and value equities (particularly financials and miners) to outperform, health care stocks to benefit under a Trump administration, and the U.S. dollar to strengthen.

There are increased long-term economic and market risks. The Trump shock has magnified political uncertainty linked to rising populist pressures ahead of key votes in Europe. The President-elect has vowed to overturn or renegotiate trade deals. This could hurt the global economy—particularly export-dependent emerging markets (EMs)—and spark risk-off sentiment and a weaker Chinese yuan. These jitters were reflected in rising volatility and a selloff in EM assets after the election. Yet for now we see selected EMs benefiting from improving economies, easing monetary policies and a global focus on fiscal spending. Read more market insights in my Weekly Commentary.

Courtesy of Richard Turnill, BlackRock’s global chief investment strategist. He is a regular contributor of the BlackRock Blog.